INSIGHT: Mixed signals cloud global chems outlook, but bias to upside

28 August 2013 16:23[Source: ICIS news]

By Joseph Chang

NEW YORK (ICIS)--There is more noise to cut through than ever to get to the global chemical sector outlook for the rest of 2013. A barrage of mixed signals on the macro side cloud the future direction – yet the bias appears to be to the upside.

Despite concerns about slowing economic growth in China, the US Federal Reserve being poised to taper its aggressive monetary expansion program, the weakness of the US recovery, and a looming US debt ceiling standoff (again), several key data points are pointing to the upside.

Spot chemical prices have been rising around the globe, suggesting increased demand.

This is being signalled by the Chemicals Volume Proxy, developed by Paul Satchell, UK-based analyst with global investment bank Canaccord Genuity.

The indicator - as the name suggests – is intended to gauge volumes, and thus demand, through weekly changes in 33 spot chemical prices in the US, Europe and Asia, as assessed by ICIS.

This has turned up strongly in recent weeks, hitting an overall reading of +19 for 21 August, a sharp reversal from 10 July when the Volume Proxy dipped into negative territory at -9.

Importantly, the uptrend has been “confirmed” in all three key geographic regions – the US, Europe and Asia, and with all three key product groups – olefins, polymers, and aromatics and intermediates.

“The strength of the Europe component is remarkable during what tends to be a seasonally weak period for the industry. The overall move is very broad-based and therefore gives high conviction,” Satchell says.

However, the analyst throws in a heavy dose of caveats.

“In contrast, market intelligence is both mixed and volatile, with patches of improved demand being reported, but being short-lived. There are, as yet, no visible signs of a return to the more orderly buying patterns which are a key hallmark of healthy chemicals markets,” he adds.

Taken at face value, the Chemicals Volume Proxy is pointing to increased volumes in basic chemicals going forward.

But the analyst notes that the improvement could be attributed to a combination of higher oil prices and significant cracker outages, driving up prices. On the demand side, there is little visible improvement in key downstream industries such as automotive and construction.

“It would be foolish to base a major change of view on such a short run of data. Also, there is no decisive improvement in sentiment, as reflected in market intelligence,” says Satchell.

“However, the breadth and scale of the movement in our index require the change to be given credence. The fact that Europe appears to be so strong is particularly intriguing when a traditional ‘summer lull’ seemed almost certain.”

Indeed Europe has shown signs of “green shoots” in its economy.

Research firm Markit’s flash purchasing managers indexes (PMIs) for August were higher than expected with the firm’s eurozone composite output index at 51.7, the highest since June 2011. Manufacturing showed the fastest output growth since May 2011 with a reading of 53.4.

“So far, the third quarter is shaping up to be the best that the euro area has seen in terms of business growth since the spring of 2011. The economic picture from the surveys is therefore coming into line with policymakers’ expectations of a modest yet still fragile return to growth,” said Markit chief economist Chris Williamson on 22 August.

And despite concerns about China’s slowing economy, the latest numbers on manufacturing are encouraging.

Global investment bank HSBC’s flash China manufacturing PMI came out at 50.1 for August – a four-month high.

HSBC chief economist for China, Hongbin Qu, said China’s manufacturing output is stabilising as companies restock, and expects further upside surprises to China’s growth in the coming months.

In late July, China government statistics showed a robust 13% year-over-year rise in apparent demand for polyethylene (PE) in the first half, surprising most market observers.

This has been attributed to everything from food safety concerns spurring increased consumption of packaged foods, to restocking and reduced imports of scrap plastics because of government policies.

On 26 August, China’s refining and chemical giant Sinopec released first half results, showing a 4.7% increase in domestic consumption of ethylene equivalents.

But total output in its chemicals segment was up ever so slightly at 17,266,000 tonnes. Its operating loss in chemicals narrowed to yuan (CNY) 409m ($67m) versus in the first half versus CNY 1.25bn in the year-ago period.

Looking to the second half, Sinopec expects domestic demand for refined oil products and chemicals to maintain steady growth.

Yet global equity markets are becoming increasingly concerned about the US Federal Reserve taking away the punch bowl from the party by tapering its $95bn/month in purchases of debt securities – its quantitative easing (QE) program.

This has driven up interest rates in the US, and had ripple effects worldwide, especially on emerging market countries with high current account deficits that have to be funded with US dollars.

Growing concerns that US Fed tapering will hike US interest rates and cause the US dollar to surge in value is causing steep currency declines in India, Malaysia, Thailand, Turkey and Brazil,

This has coincided with sharp drops in their equity markets on concerns about the global economic impact of less accommodative US monetary policy.

The US economy has continued to show steady but weak growth, with second quarter GDP growth coming in at 1.7%.

If you were to point to one dichotomy characterising the nature of the recovery, look no further than the automotive sector.

US auto sales have recovered strongly to around 15.8m units on a seasonally adjusted annualised rate as of July, and are projected to be up double-digits percentage-wise in 2013.

Yet the US replacement tyre market remains in the doldrums, as drivers prefer to wear out their wheels rather than buy new ones.

“I've been in this business for 30 years, and I have never seen as many bald tyres and exposed cords as I do today,” said one US tyre executive in late August.

One major leg underpinning the recovery has been the housing sector. But on 23 August the US Commerce Department announced that sales of new homes fell a sharp 13.4% in July. Higher mortgage rates are crimping the appetite for loans.

But on the US chemical side, another major indicator is pointing up. And one economist says this is being led by housing sector demand.

The American Chemistry Council’s (ACC’s) Chemical Activity Barometer (CAB) logged a year-over-year gain of 3.8% in August – the highest gain since September 2010, and the highest reading since June 2008.

“As we approach the fourth quarter, the US economy seems to be making strides, compared to the baby steps of earlier in the year,” said ACC chief economist Kevin Swift on 27 August.

“The Chemical Activity Barometer is showing a strengthening of year-over-year growth and suggests an economy which finally may be gaining momentum,” he added.

Swift pointed to solid fundamentals in the housing market, confirmed by further gains in construction-related plastic resins, coatings, pigments and other chemicals, all suggesting the housing recovery will continue.

But two more potentially huge macro events loom – both coming from the US. This includes an impending US airstrike on Syria in response to the latter allegedly using chemical weapons on rebels, and the US coming up against its debt ceiling once again.

Further instability in the Middle East could jack up oil prices and disrupt trade.

And political brinksmanship on raising the debt limit as the US runs out of funding by mid-October could cast further doubt on the near risk-free nature of the government’s obligations.

Self-inflicted financial instability is the last thing the world needs as it struggles to put together an economic recovery.

($1 = CNY6.12)

Additional contributions from Nigel Davis in London and Mark Yost in Houston